Investment commentary February 2016

Quick overview

2016 started much as 2015 ended, with concerns about the state of global growth and investors contemplating the consequences of a Chinese economic hard landing.

Underlying economic data released in January was a little soft, but the cause of this concern was really the volatility in markets themselves and investors’ reactions to it, rather than any real change in the fundamentals.

The recent pullbacks have brought growth assets to levels around fair value, but not yet to the point where you could say they are undeniably cheap. Defensive assets are priced for very poor economic outcomes and so any positive change in sentiment will likely cause negative returns at least in the short term.

It’s a challenging time for investors. Diversification will be crucial, but we do expect to find opportunities to add to areas where widespread pessimism has provided attractive entry levels.

Australia

Australian shares fell -5.5% in January.

Resources led the market lower, falling on concerns about global growth and future commodity demand.

Utilities and telecommunications were slightly positive.

Listed property was flat.

The Australian housing market was a solid contributor to economic growth in 2015, helping to offset the decline in mining investment. The lowest mortgage rates in a generation helped fuel rapid price increases in Sydney and Melbourne in particular, and a construction boom saw building approvals reach all-time highs.

Momentum began to slow late last year and early indications are that prices are no longer rising. This recent tailwind to the economy will probably be less beneficial over 2016.

United States

The pace of economic growth in the US has been adversely impacted by the rise in the US dollar and the fall in the oil price.

Employment data continues to be strong and there are signs that wage growth is beginning to improve. It was this data which led the Federal Reserve to begin raising interest rates in December.

Weaker share markets and the potential for spillover effects from a slowdown in China mean the central bank is unlikely to raise rates again without further confirmation that the US economy remains on track.

Europe

Inflation in Europe remains stubbornly low and while progress has been made in Germany, the unemployment rate in some countries such as Spain and Italy is still at very high levels.

In the years since the Global Financial Crisis, growth in many European economies was retarded by the need to bring government budgets back under control. Given the progress over time, the drag on the economy from reduced government spending is now far less, and the outlook for growth will likely improve as a consequence.

Asia

Although there was very little new data released on the Chinese economy in January, it was nonetheless the centre of attention for investors around the world.

An unexpectedly sharp depreciation in the Chinese currency and a 21% fall in the local share market was reminiscent of the events of August last year – increasing volatility in commodities and share markets around the world, and driving bond yields everywhere lower.

The Bank of Japan (BoJ) took their Quantitative and Qualitative Easing program a step further by introducing a negative interest rate in early February. Governor Kuroda surprised everyone with the tone of his speech, saying that he was “convinced that there is no limit to measures for monetary easing”.

The BoJ is committed to achieving its target of 2% inflation, a level not seen on a sustained basis since the early 1990s.

Currency

The Australian dollar went on a bit of a roller coaster ride, falling from 72.8c to the US dollar at the start of the month, to as low as 68.4c before recovering to be above 72c again in early February.

The initial fall was associated with the reassessment of the outlook for China and commodity prices.

The Australian dollar’s strong rally late in the month has more to do with general weakness in the US dollar.